Jagged hedge
Alternative investments
2008 was the worst year in history for the hedge fund industry. Despite promises of generating absolute returns in all market scenarios, the average return was a loss of more than 18%. Perhaps even more worrying, many funds had to suspend redemptions or impose ‘gates’ that locked up significant proportions of funds.
WHAT WENT WRONG?
Many funds were achieving their returns by employing very high gearing. Increasing volatility exposed some of these strategies as being nothing more than ‘picking up pennies in front of a steam roller’. Furthermore, as lending terms tightened such borrowing became
considerably more expensive, even when available. It also transpired that many funds had been investing in very illiquid assets that fell in price sharply as soon as they tried to get out. Many funds were following identical strategies, (e.g. borrowing Yen to invest
in commodities) and were badly burned when the trends reversed sharply. Finally, it turned out some funds (e.g. Madoff) were simply fraudulent.
WHERE TO NOW?
Not surprisingly, there has been a massive loss of confidence in hedge
funds. Many commentators are predicting that the sector will decline by 50% or more in 2009 and this rush for the door has caused most of the closed end listed funds to slip to large discounts to net asset value. However, there are some grounds for feeling optimistic.
- Charges are coming down. The former standard of 2% per annum + 20% of gains is being replaced with cheaper alternatives
- Increased regulation should result in more transparency. We expect many funds in future to be registered funds making use of the ‘UCITS 3’ rules (e.g. Blackrock Absolute Alpha)
- Fewer funds plus cutbacks in the proprietary trading desks of investment banks should result in less competition
- Forced selling is probably creating once in a lifetime buying opportunities in certain types of asset that require very careful analysis (e.g. distressed loans). This should be a classic territory for hedge funds.
Therefore, we continue to advocate that part of portfolios should be invested in hedge funds. We continue to like regulated long/short funds such as Blackrock Absolute Alpha and Cazenove UK Absolute. We also believe there are opportunities in the
quoted funds of funds trading on large discounts.
How the hedge funds have performed
| Index |
December 2008 |
2008 |
| Credit Suisse/Tremont Hedge Fund Index | 0.30% | -18.80% |
| Convertible Arbitrage | -1.27% | -31.79% |
| Dedicated Short Bias | -2.55% | 13.87% |
| Emerging Markets | 0.25% | -30.38% |
| Equity Market Neutral | 1.89% | -39.44% |
| Event Driven | -0.26% | -16.91% |
| – Distressed | -1.37% | -19.52% |
| – Event Driven Multi-Strategy | 0.28% | -15.60% |
| – Risk Arbitrage | 1.49% | -3.37% |
| Fixed Income Arbitrage | 0.72% | -27.72% |
| Global Macro | 1.04% | -4.69% |
| Long/Short Equity | 0.85% | -19.92% |
| Managed Futures | 2.28% | 18.23% |
| Multi-Strategy | -1.66% | -23.74% |
| MSCI World | 3.06% | -42.08% |
| Barclays Capital Aggregate Bond Index | 6.21% | -4.79% |
| DJ AIG Commodities Index | -4.48% | -35.65% |
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